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Harris Sherline: Price Gouging and Excess Profits

Throwing phrases around sounds good but a closer look at the numbers reveals a different story.

Should price gouging be a felony? Should it be a crime for someone to take advantage of market conditions and make too much profit? How can the government let big corporations and rich industrialists get away with making so much money simply because they are in a position to control the supply and manipulate prices? It’s not fair. What about the little guy?

“There ought to be a law” is an old cliché. So, why not prevent “price gouging” and “excess profits” by passing laws to regulate everything involved in producing and delivering all goods and services?

Unfortunately, there is one small problem: defining “price gouging” and “excess profits.”

So, what are they? You tell me. I haven’t a clue, and I’m a retired CPA.

Should “profit” be determined solely on the basis of markup? Just how much should businesses be allowed to mark up the cost of their raw materials and/or labor? Do we need a law against prices that double the cost, or more, such as cosmetics, drugs, groceries, restaurants, dry cleaners, actually just about anything?

Seems simple, doesn’t it? But, just how should cost be figured? Does it include labor and materials plus all the other expenses of running a business? That is, literally everything and anything that’s necessary to run an enterprise. How about the salaries of the owners or executives who manage businesses? Should they be considered part of the cost of doing business?

Is it even possible to create legislation that regulates literally everything involved in the process? And, what about the cost of implementing such laws: defining, regulating and policing them?

A commentary that circulated on the Internet highlighted huge markups that drug manufacturers make on the active ingredients in their products. At first glance, the raw data is quite shocking.

Here are some examples of the spread between the selling prices of some popular drugs and the cost of the active ingredients used in manufacturing them: Celebrex, 21,712 percent; Claritin, 30,306 percent; Lipitor, 4,696 percent; Prevacid, 34,136 percent; and Prilosec, 69,417 percent. If anything ever seemed excessive, markups of this order certainly seem to qualify, don’t they?

However, the problem with this type of information is that it omits the other numbers needed to make a judgment; that is, all the costs of manufacturing, distributing and marketing the products. In other words, the full cost of doing business.

Many people think businesses earn as much as 50 percent or 60 percent of the prices their products or services sell for. In fact, they may end up keeping as little as 2 percent or less of their revenue or sales, as in the case of supermarkets, or it may be 5 percent to 10 percent, as with restaurants. The oil companies, which currently are being castigated by just about everyone, manage to keep (net) only “8.3 cents per dollar of sales. Beverage companies and cigarette makers, by contrast, earned 19.1 cents. Drug makers, 18.4 cents. Indeed, all manufacturers, 8.9 cents on average, made more than ‘Big Oil.’” Click here for the May 1 Investors Business Daily “Profits of Doom?” editorial.

What about those individuals who make substantial profits on investments in public companies, starting their own businesses, or real estate? Many people invested in IBM, Microsoft, Berkshire Hathaway, Yahoo!, Cisco and other enterprises that ultimately became hugely successful, making them rich in the process. Should they also be subject to “excess profits” taxes?

Or, what about those homeowners whose properties increased in value by 500 percent or 1,000 percent, or more. Are those “excess profits” that should be taxed to prevent people from taking advantage of market conditions?

We repeatedly hear politicians complain about how much money various businesses make, such as the oil companies, drug manufacturers, hospitals and doctors, Wal-Mart, just about any company or industry that garners public attention.

But, who would determine the amount of profit that is too much? Would some board, commission or agency decide how much businesses should be paying for the raw materials they use in manufacturing or what they should be spending on advertising or perhaps the wages they should be paying, or how much their rent should be, or what they should pay for any product or service they use, or how much they should be allowed to mark up their costs?

The entire process is a “slippery slope,” guaranteed to become a nightmare of rules and regulations, much like the tax code.

To those who may think they know how to create and implement legislation that can make price gouging illegal or tax “excess or windfall profits” without destroying the incentive to produce, good luck! I confess, it’s above my pay grade.

Harris R. Sherline is a retired CPA and former chairman and CEO of Santa Ynez Valley Hospital who has lived in Santa Barbara County for more than 30 years. He stays active writing opinion columns and his own blog, Opinionfest.com.

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